Posts Tagged ‘Bank for International Settlements’

As I used to report on the Bank for International Settlements (BIS) as a financial journalist in Switzerland, I remain interested in certain clients it has (they’re all central banks). Take Argentina for example. It holds nearly all its reserves at the BIS, which is unusual – most other central banks keep about 4%.

Argentina does this because at the BIS its money is protected from attachment by unpaid creditors. I’ll return to this in a later blog. It’s the subject of arcane arguments in American courts at present. If you look at http://blogs.reuters.com/felix-salmon/tag/argentina/, you’ll see what I mean.

Paraguay is another case, and it’s more topical – see my two recent blogs. It holds all its reserves at the BIS, also to protect them from creditors it decided not to pay.

Last week that did not deter a good number of investors from subscribing to Paraguay’s first-ever public international bond issue. The risk is theirs, you may say. However it does uncannily remind me of the years leading up to the crash of 2008, when banks sold little-explained investment vehicles to gullible investors who did not understand them and asked no questions because of their greed for high yields.

In Paraguay’s case, lead manager Citibank did not inform subscribers in the prospectus that the country keeps all its reserves at the BIS, let alone why. So if the next Paraguayan government repudiates the debt – this has happened several times in the past and the next election is in April – investors were not made aware that a key means of legal redress is blocked.

The ratings agencies were not much put out by this. S&P’s BB- rating and Moody’s Ba3 seem not too bad.

A week before the bond was launched, I myself asked the Paraguayan Finance Minister: “How will you convince potential bondholders that a future Paraguayan Government will not repudiate the bond issue transaction and protect itself from claims by accumulating further funds at the BIS?”

I received no answer, even though the Central Bank had been communicating with me before. Towards the end of last year, Paraguayan ministers were saying in the local media the bond would be launched in mid-February. Now it has popped out just after the New Year. Looks like a rushed job.

Are we at the start of a new cycle of peddling dubious assets which nobody can quite fathom? History shows repentance never lasts more than a few years. I sense the first puffs into a new bubble.

Yesterday I wrote about Paraguay and its piano and why investors should beware this dubious country planning to make its first public international bond issue ($500 million). Today I see that the deal is almost done and dusted. I also see that Barclays are the only ones to issue a word of caution.

I wonder why this has been rushed out only three months before a new government is elected in Paraguay, all the more since the country has a long history of one government repudiating the debts of a previous one.

I was forwarded a list of questions raised by an investor I know who invests his own money (and not earning management fees from handling other people’s). Having seen the preliminary prospectus, he had these questions for the Paraguayan Minister of Finance and Citibank (lead manager of the bond issue):

1 – Why were investors not told that Paraguay has for years kept its funds safe at the Bank for International Settlements (BIS) in Basle because it is immune from legal attachment from creditors (not vulture funds in the case of Paraguay)?

2 – Why were investors not told that Paraguay will continue to keep its money protected at the BIS and therefore, in the event of the new government reneging on payments for the bond, a judgment against it will be worthless for enforcement purposes?

3 – Although the prospectus did mention a list of problem creditors, why did it not state clearly that they all refer to undertakings by one government repudiated by another?

5 – Why were investors not told what it costs Paraguay to keep its money protected at the BIS?

6 – What difference would it make to the economy of Paraguay if the bond issue was delayed until after the elections in April and proceeded with the backing of the new government which should be in power for five years? After all the current government is temporary, its mandate dubious and not widely recognized until the elections in April.

So into whose pocket did the extra $90,000 go? That is hard to say, as it was in the case of $85 million which a Paraguayan entity borrowed from a consortium of banks in Switzerland in the mid-1980s, providing a government guarantee and written ministerial undertakings. None of that money was ever spent on the infrastructure projects for which it was raised. It disappeared.

A new Paraguayan government subsequently repudiated that debt and continues to refuse to repay it despite exhausting all legal channels of appeal following a Swiss Supreme Court judgment against it. The country has a history of one government reneging on the financial undertakings of a previous one. There are further claims of about $100 million in the pipeline in this category.

None of this would be of much concern for the rest of the financial world, if Paraguay were not just now planning to float its first public international bond issue in living memory. In the next few weeks, just before elections for a new government, it says it will raise $500 million in an operation managed by a U.S. bank to invest in infrastructure projects.

Paraguay will doubtless give a full account of all outstanding claims against it in the prospectus, and investors will no doubt give it a fair reading. They may also recall the old adage caveat emptor.

The European Union, the IMF and other creditors have decided to help Greece avoid default on its sovereign debt, but is a default really out of the question? A number of other countries have found it quite convenient to remain in default for 10 years or more. Recent history suggests Latin America may be an inspiration for that.
Take Argentina for an example. It is no stranger to defaults. Its central bank holds most of its reserves at the Bank for International Settlements (BIS) in Switzerland. This is because of its last default on its international debt 10 years ago The BIS has a special legal status as the “central banks’ bank,” backed by immunity provided by the Swiss government, preventing creditors from seizing a debtor country’s assets held there.
With its attachable assets safely at the BIS, Argentina has settled with 93% of its creditors at a fraction of the original claims, but the remaining 7% are still making vigorous efforts to seize its assets all over the world. Hence Argentina’s continuing need for the BIS. However the BIS arrangement has a price – the bank pays only around 0.4 % of interest. If the reserves were held conventionally, Argentina could be earning about 2%. The estimated loss is about $675 million per year.
The Argentinian people already suffered enormously in the financial crisis which led to the default. I was in Buenos Aires at the time. A thief attacked me as I left my hotel and tried to wrestle my watch off me. Queues of destitute people waited for free handouts of food from restaurants and supermarkets. The losses on the BIS arrangement in the end mean further losses for the people.
Another example on a smaller scale is Paraguay, which failed to pay back money it raised from Swiss banks in the 1980s. It is in default since it failed to conform with a Swiss court judgment of 2005 that it must honour a Paraguayan government guarantee given to the banks. So it too has chosen to park its reserves with the BIS. Not only does Paraguay forfeit interest – some $100 million per year – but it recently revealed that it was also paying 9 million dollars a year of professional fees to keep the arrangement going.
So the Paraguayan people have to put up with financing these losses year after year, while the BIS protection prevents the Swiss banks from recovering their loans.
Many central banks keep funds at the BIS for entirely legitimate reasons, but the worldwide average is 4% of reserves. One may wonder why the BIS wishes to protect debt defaulters whose assets a court may otherwise be justified in seizing. It is unlikely to explain. When I covered it as a Reuters correspondent in the past, it consistently refused to discuss its affairs.
Greece may not be out of the woods. Could it yet be tempted by these Latin American precedents?